The Hindu Business Line : Price of growth

Basking in the euphoric conditions caused by robust economic growth, it is party-time for Indian business. Healthy GDP numbers, rising Sensex, burgeoning foreign exchange reserves and two-way FDI flows all indicate strong macro-economic fundamentals. Yet, there is cause for concern. Inflation may turn a party-pooper. Already past the psychological 6 per cent barrier, inflation is turning potentially explosive, fuelled by cues from overseas.

The global energy market has reversed direction and is on the rise. Contrary to expectation, crude has gained substantially from the January lows and is threatening to move past $60 a barrel. Geopolitical developments can deliver a big bolt. Despite the somewhat sluggish consumption growth and rising inventories, the international metals market (mainly copper and aluminium) has bottomed out. Indeed, the risks to the upside are real from both demand- and supply-side factors. The market is vulnerable to supply disruptions because of possible labour action. Steel prices have been moving up in recent months. Global agricultural commodity markets too are rising strongly, under the influence of burgeoning biofuels demand. Large investments in bioethanol production (especially in the US) have pushed corn (maize) prices to unprecedented heights which, in turn, is impacting other grains such as wheat, and oilseeds. Likewise, the biodiesel needs have pushed up vegetable oil prices by over 20 per cent in recent months, with potential for new highs because of the El Nino threat.

At home, the rabi prospects (for wheat, pulses, and oilseed crops) are far from satisfactory; this is on top of a just-about-average kharif harvest. In other words, increasingly severe supply-side constraints are sure to continue to push food prices even higher. There may be a period, albeit brief, in March and April for the bullish sentiment to soften in the wake of harvest and arrivals. But June and beyond would be a highly challenging period, especially as the nation will have to contend with the vagaries of the South-West monsoon also.

It is clearly in recognition of the dangers on the price front that the Prime Minister, Dr Manmohan Singh, recently assured the nation of the government's commitment to containing inflation and quick policy measures to check the price spiral. While it is not unusual for the Prime Minister to make a well-meaning statement intended to soothe the sentiments, none can deny that it is a tough call for the policy-makers because the portents are ominous. The market well knows that the Government has exhausted almost all the weapons in its armoury — banning exports, liberalising imports, cutting duties, invoking restrictive laws and so on. What more can be done to rein in prices? The commodity market will face heightened `political risk'. If inflation is seen as a purely monetary phenomenon, the only option is to hike interest rates further. Already stiff, higher rates can only hurt growth.